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Musical chairs

When China’s answer to Justin Bieber launched his debut album in 2015, he was doing a lot more than forging a solo career. Perhaps more significantly for the music industry, Lu Han only released his album, Reloaded I, digitally and only via Tencent Music.

He sold 1 million copies in five days. The former EXO boy-band member has since released seven more digital albums and garnered 8.2 million followers on Tencent’s platform. The most avid are ranked online. What better way to monetise hormonal teenagers than making obsessive fans feel one step closer to their idol?

These kind of digital interactions lie at the heart of the business model of Tencent Music. It is also one reason why China’s biggest digital music platform is profitable and Western streaming services like Spotify are not.

This became a lot clearer after Tencent Music filed for a US listing at the beginning of October. The group’s prospectus showed that it made a profit of Rmb1.7 billion ($250 million) during the first half of 2018, up from Rmb395 million a year ago. By contrast, Spotify lost $461 million during the second quarter.

But being profitable was not enough to give Tencent Music the $30 billion valuation it was looking for. According to Reuters, the group has postponed its planned IPO until next month at the earliest.

The delay was hardly that surprising, as it occurred amid one of the weakest market backdrops for tech stocks in recent times.

The BAT troika (Baidu, Alibaba and Tencent) have each lost 30% to 40% of their value over the last quarter. The rout may have a lot further to run, given the Nasdaq index had effectively doubled since 2016.

But few doubt the long-term fundamentals for the online music industry in China; a country that not long ago was better known for pirating content rather than paying for it.

Back in 2013, the market was only worth Rmb1.8 billion according to iResearch. That had grown to Rmb33 billion last year and the consultancy believes it will top Rmb215 billion by 2023 with a compound annual growth rate of nearly 37%.

On a per capita basis, the US music market is still 45 times larger than China’s. Yet Tencent Music’s IPO underlines how the gap is closing.

Only 3.6% of Tencent Music subscribers (it has 644 million active users across its three big music apps) are paid-up members versus 28% for Spotify. The Chinese also pay a lot less for music than for other online entertainment: Rmb2.9 per user compared to Rmb14.8 for video, Rmb169.9 for games and Rmb34.5 for films.

But crucially, they interact enthusiastically with the content – think karaoke – and in China’s rather unique internet culture they also like ‘tipping’ i.e. transferring money and buying virtual gifts for each other, as well as the musicians they are listening to.

The hiccup for Tencent Music’s IPO doesn’t mean things are going out of tune. In fact, even Baidu, which led the market back in 2002 but opted to exit in 2015 by selling its online music unit, now wants back in.

The search firm made its comeback this month with an investment in NetEase Music. It operates China’s 40th most popular app with about 154 million active users, trailing only Tencent Music, which owns popular music apps such as Kuguo and Kuwo.

The terms of Baidu’s investment in NetEase Music are unclear, although the two sides have said they will become strategic partners.

Baidu wants content for its distribution channels, including its voice-activated operating system for cars (DuerOS), as it tries to build a music, video and information ecosystem to close the gap with Alibaba and Tencent. And NetEase Music wants a partner to direct more traffic its way.

The deal follows a tricky month for Ding Lei’s firm after its popular website NetEase Finance was shut down by state censors (see WiC425).

For Baidu the purchase of the stake is further recognition of how badly it has lagged its bigger BAT rivals in faster-growing, smartphone-based platforms. But given that it is rare for two Chinese internet giants to work together, some will ask if this latest deal could be a trial run for something far bigger…

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